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Those who understand bitcoin view the technology as highly innovative and one that holds a tremendous amount of potential (merznatalia/Getty Images/iStockphoto)
Those who understand bitcoin view the technology as highly innovative and one that holds a tremendous amount of potential (merznatalia/Getty Images/iStockphoto)

Guest column

The truth about bitcoin and its impact on business Add to ...

The media’s insatiable desire to sensationalize stories has resulted in a lot of misinformation around bitcoin. For business owners who aren’t properly educated, this misinformation – understandably – leaves them with inaccurate opinions, and the reality of bitcoin is left somewhere behind.

Those who understand bitcoin view the technology as highly innovative and one that holds a tremendous amount of potential. I personally share this opinion, but as a payment professional, came to this conclusion from a very cautious position. It was important that our company educate ourselves on this new type of currency in order to determine how to best deal with it.

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So, what is bitcoin and what does it mean to businesses? Bitcoin is comprised of the following four things:

First, it is software. In 2009, Satoshi Nakamoto released the first version of the bitcoin software as an open-source project. The software essentially defines the protocol in which the bitcoin network operates. As an open-source project, the software can be freely used (and modified) for other projects. As a result, many other coins – informally known as altcoins – have been launched using modified versions of the original bitcoin software. Some examples of altcoins are Litecoin, Dogecoin and Peercoin.

Second, bitcoin is an open peer-to-peer network. The use of and participation in the bitcoin software by users across the globe creates the bitcoin network. Anyone can participate and it’s the collective computing power of all the users (specifically a type of user known as a Miner) across the globe that supports and operates the bitcoin network. The peer-to-peer design of the network does not support any central authority that controls the network – in other words, it’s decentralized. I like to describe it as “a network by the people, for the people.

Third, bitcoin is a secure transaction verification mechanism. It combines a general accounting ledger, known as the Blockchain, with encryption technology to provide a secure transaction verification engine. This removes the need for a trusted third party and allows bitcoin to operate independently. The bitcoin Blockchain is shared to the public and everyone can view it in real time.

Fourth, it is a brand. It’s the name of the encrypted digital tokens that represent a unit of value within the bitcoin payment network; much like the greenback or loonie  represent a unit of value within their respective fiat currency systems.

Bitcoin's impact on business

Bitcoin was designed first and foremost to facilitate online payments and it is as a payment system that I believe it will have its initial significant impact on business. On a daily basis we rely on conventional payment networks such as Visa, MasterCard and Interac. Now more than ever, businesses that want to be competitive must utilize electronic payments in selling their goods and services. The use of cheques and cash has been in steady decline for many years while e-commerce and electronic payments continue to grow year after year. In my opinion, there are a number of characteristics of bitcoin which offer improvements over conventional payment networks.

1. It’s very easy to participate in and use bitcoin. Conventional payment networks rely on the banks as trusted third parties to facilitate the transfer of funds across those networks. You need to have a bank account in order to participate. Setting up a bank account, particularly as a business, is often difficult and beset by bureaucracy. If you do have a bank account, you are then bound by rules and limitations that can stifle innovation and forward thinking. You can set up a bitcoin address in a matter of seconds – there’s no application or approval process. It costs you nothing, you can participate as an individual or as a business, you can do it from anywhere in the world and the only limitation for transacting is how many bitcoins you have to spend.

2. Bitcoin is cost effective and flexible. Perhaps the coolest thing about bitcoin is that the payor (the person sending the funds) can voluntarily set the transaction fee and can also choose to have no fee at all. Bitcoin’s unique fee structure achieves four important things:

a. Bitcoin pays no attention to user logistics. The network does not care where the sender and receiver of a bitcoin transaction physically exist. It bears no effect on the speed of transaction verification nor the cost. This allows users across the globe to transact quickly with low or even no cost. Transacting internationally with conventional payment systems is expensive and often slow and cumbersome.

b. It supports micro-payments. You can send very small amounts through the bitcoin network without having to pay a transaction cost. This has long been an issue with conventional payment systems. Conventional transaction fees can be equal to or even more than the value being transferred which is an obvious problem.

c. It supports macro-payments. You can send very large amounts through the bitcoin network without having to pay a large transaction cost. This is not possible with conventional payment systems.

d. It provides the sender with a tool to incent the bitcoin network to validate their transaction. This is helpful in a scenario where validating the transaction quickly is important.

3. It’s secure. It’s difficult – edging on the realm of impossible – to de-fraud the bitcoin network. Payment related fraud committed over conventional payment networks is a big problem. In 2012, over $21-billion in payment fraud occurred in the U.S. alone. That cost is much larger on a global scale and it is incurred by all of us that participate as consumers and business owners. Conventional payment networks were not originally designed to facilitate electronic transactions. Payment related fraud, particularly e-commerce based payment fraud, is relatively easy to commit and there is little to no recourse to those that attempt it. bitcoin does not suffer this problem. Explaining why gets pretty complex but I’ll key in on a few important aspects:

Bitcoin is a ‘push’ payment system. Payment transactions are ‘pushed’ or initiated by the payor. The payor defines the value amount and who the payee is and then ‘pushes’ the bitcoin value to the payee. It’s the equivalent of taking cash out of your wallet and handing it to the person that you owe.

Conventional payment networks primarily use ‘pull’ payments. The payor authorizes the payee to ‘pull’ funds from their bank account or card account. It’s the equivalent of handing your wallet to the person you owe and trusting them to take out the right amount of cash. The ‘pull’ system – in which you trust the recipient to take the correct amount – is one of the biggest reasons why payment related fraud has grown to be an enormous problem on a global scale.

Bitcoin is indemnified. There is no internal dispute mechanism within the bitcoin protocol. When you send someone bitcoins, it is final. There’s no getting the bitcoins back, unless the recipient chooses to return them to you. Traditional payment networks have internal dispute mechanisms. These dispute mechanisms are supposed to protect consumers but in reality they are heavily abused by fraudsters and are another big reason why payment related fraud has grown to be an enormous problem on a global scale.

What are the main risks of using bitcoin?

Bitcoin is a good payment network, but it’s in its infancy and does have its shortcomings. The following are things I would recommend anyone be aware of to effectively use bitcoin for sending and receiving payments:

Bitcoin is currently pseudonymous: The Blockchain provides amounts and bitcoin addresses of each transaction, but it does not provide the personal or businesses information behind the owners of the addresses. I believe we will see identity added to the bitcoin software, but regardless, it’s your responsibility both as a consumer and as a business owner to know and to understand with whom you are transacting.

The world is full of bad people participating in illicit activity and bitcoin makes it very easy and convenient to transact across the globe. The media’s sensational association of bitcoin to illicit activity has given bitcoin an unfairly bad reputation, in my opinion. The amount of bitcoin used in illicit activity doesn’t even come close to the amount of fiat currency used in illicit activity. It’s not even in the same spectrum. No one has called for the end of the U.S. dollar because it’s used by drug dealers as that would undoubtedly be seen as ridiculous. What isn’t ridiculous, however, is knowing whom you are transacting with and bitcoin can make it easy to skirt that responsibility so be aware of that.

Bitcoin can be lost or stolen: You have to make an effort to properly store your bitcoin because it can be lost or stolen. If someone gets access to your private account keys they can take your bitcoin. If you lose your account keys, unless you find them, the bitcoin cannot be recovered. There are many effective ways to store bitcoin. Take the time to educate yourself on the methods that work best for you.

Volatility and efficient conversion to fiat currencies: The early adoption and participation in bitcoin has been bolstered by speculative trading. Traders look for arbitrage opportunities between bitcoin, fiat currencies and altcoins. This is good as is drives value into the bitcoin network but it also creates volatility with the value of bitcoin. There is not yet enough participation in bitcoin for businesses to effectively operate with bitcoin only. Until that day, everyone still relies heavily on fiat currencies such as the Canadian dollar. So, if you are a business in this country and you want to accept bitcoin, you’ll want to be sure that you are properly valuing the bitcoin against the Canadian dollar and then trading the bitcoin over to Canadian dollars regularly so you are not affected by price volatility. The easiest way to do this is to work with a bitcoin exchange service. There are now many reputable and innovative bitcoin exchanges and their services are improving on a daily basis.

Bank scrutiny: The banks are being very cautious with respect to bitcoin. It is important to any business that they maintain a good banking relationship. If you use bitcoin in your business and your banker becomes aware of that, you may come under some scrutiny. You may even risk losing your banking. The banks big concern around bitcoin is source of funds and knowing your customer. This goes back to my earlier statement; it’s is imperative for a business to know and understand whom they are transacting with. The last thing a bank wants to see are funds going through their bank that are associated with any illicit activity and they will err way on the side of caution in this regard.

Personally, I don’t see any of these risks as being difficult to mitigate. As participation in bitcoin grows, all of these risks will become significantly reduced. In my opinion, conventional payment systems carry more risk than bitcoin as a payment system.

Geoff Gordon is the CEO of Vogogo, a payment processing startup based in Calgary.

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